11/19/2016

TheAgencyProblemCompleteGuideToCorporateFinance|Investopedia

Anagencyrelationshipoccurswhenaprincipalhiresanagenttoperformsomeduty.A
conflict,knownasan"agencyproblem
conflict,knownasan"
agencyproblem,,"ariseswhenthereisaconflictofinterestbetween
theneedsoftheprincipalandtheneedsoftheagent.
Infinance,therearetwoprimaryagencyrelationships:
Managersandstockholders
Managersandcreditors
1.StockholdersversusManagers
Ifthemanagerownslessthan100%ofthefirm'scommonstock,apotentialagency
problembetweenmangersandstockholdersexists.
Managersmaymakedecisionsthatconflictwiththebestinterestsoftheshareholders.
Forexample,managersmaygrowtheirfirmstoescapeatakeoverattempttoincrease
theirownjobsecurity.However,atakeovermaybeintheshareholders'bestinterest.
2.StockholdersversusCreditors
2.StockholdersversusCreditors
Creditorsdecidetoloanmoneytoacorporationbasedontheriskinessofthecompany,
itscapitalstructureanditspotentialcapitalstructure.Allofthesefactorswillaffectthe
company'spotentialcashflow,whichisacreditors'mainconcern.
Stockholders,however,havecontrolofsuchdecisionsthroughthemanagers.
Sincestockholderswillmakedecisionsbasedontheirbestinterests,apotentialagency
problemexistsbetweenthestockholdersandcreditors.Forexample,managerscould
borrowmoneytorepurchasesharestolowerthecorporation'ssharebaseandincrease
shareholderreturn.Stockholderswillbenefithowever,creditorswillbeconcernedgiven
theincreaseindebtthatwouldaffectfuturecashflows.
MotivatingManagerstoActinShareholders'BestInterests
MotivatingManagerstoActinShareholders'BestInterests
Therearefourprimarymechanismsformotivatingmanagerstoactinstockholders'best
interests:
Managerialcompensation
Directinterventionbystockholders
Threatoffiring
Threatoftakeovers
1.ManagerialCompensation
Managerialcompensationshouldbeconstructednotonlytoretaincompetentmanagers,but
toalignmanagers'interestswiththoseofstockholdersasmuchaspossible.
Thisistypicallydonewithanannualsalaryplusperformancebonusesandcompany
shares.
Companysharesaretypicallydistributedtomanagerseitheras:
Performanceshares,wheremanagerswillreceiveacertainnumbersharesbased
Performanceshares
,wheremanagerswillreceiveacertainnumbersharesbased
onthecompany'sperformance
Executivestockoptions,whichallowthemanagertopurchasesharesatafuture
Executivestockoptions
,whichallowthemanagertopurchasesharesatafuture
dateandprice.Withtheuseofstockoptions,managersarealignedclosertothe
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interestofthestockholdersastheythemselveswillbestockholders.

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TheAgencyProblemCompleteGuideToCorporateFinance|Investopedia

interestofthestockholdersastheythemselveswillbestockholders.
2.DirectInterventionbyStockholders
Today,themajorityofacompany'sstockisownedbylargeinstitutionalinvestors,suchas
mutualfundsandpensions.Assuch,theselargeinstitutionalstockholderscanexert
influenceonmangersand,asaresult,thefirm'soperations.
3.ThreatofFiring
Ifstockholdersareunhappywithcurrentmanagement,theycanencouragetheexisting
boardofdirectorstochangetheexistingmanagement,orstockholdersmayreelectanew
boardofdirectorsthatwillaccomplishthetask.
4.ThreatofTakeovers
Ifastockpricedeterioratesbecauseofmanagement'sinabilitytorunthecompany
effectively,competitorsorstockholdersmaytakeacontrollinginterestinthecompanyand
bringintheirownmanagers.
bringintheirownmanagers.

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